Free Cash Flow and Working Capital

Rajan (NA) (54 Points)

22 June 2020  

Dear All,

I have a basic doubt in calculation Free Cash Flow (for application under DCF). I am of the understanding that to derive free cash flow, Operating Income after taxes needs to be subtracted with Changes in Working Capital (Net Changes in Working Capital) and Capex.

Formula is: Free Cash Flow = Operation Income (after taxes) - Net Changes in Working Capital - CapEX.

For clarity, let's use the below example:

Operating Income after taxes = 100

Net Change in Working Capital = -25

Capex = 15

1)

a) FCFE = 100 - (-25) - 15 = 110 or b) FCFE = 100 - 25 - 15 = 60

Which would be the correct answer in based on the above example?

2) In case if the above example is changed as below:

Operating Income after taxes = 100

Net Change in Working Capital = 25

Capex = 15

a) FCFE = 100 - 25 - 15 = 60 or b) FCFE = 100 + 25 - 15 = 110

Which would be the correct answer in based on the above example?

 

Thank you,

Rajan